Court Denies Bad-Debt Business Deduction.

* A taxpayer formed a corporation to acquire and rehabilitate financially distressed companies. He lent the corporation millions of dollars, but eventually it became financially distressed. On his personal income tax return, the taxpayer deducted the unpaid loans as a business bad debt. The IRS denied the deduction. It argued the taxpayer was not in the business of lending money. The taxpayer countered that the loans related to his business of "buying, rehabilitating and reselling corporations."

The circuit court agreed with the IRS, finding that the taxpayer was merely an investor who provided working capital to the corporation. There was no evidence, the court said, that the taxpayer actively managed the corporation or provided any services to the distressed companies. Therefore, the court denied the company's bad debt deduction and held the loans were nonbusiness debts (Commissioner v. Melvyn L. Bell, 8th Cir.,1-5-00).

--Michael Lynch, CPA, Esq., professor of tax accounting at Bryant College, Smithfield, Rhode Island.